Small businesses earn less than a government stipulated minimum amount of revenue each fiscal year and are defined at municipal, state, and federal levels. While sales tax exemption may seem like a bonus, it can create cash flow issues. Small business status is found in professional services, niche market services, and limited volume distribution.
The term small business is used to describe a company or business that earns less than a government stipulated minimum amount of revenue or sales each fiscal year. The primary purpose of this distinction is to define the sales threshold over which the company is required to collect and remit sales or excise tax. Taxation of goods and services is determined at the municipal, state and federal levels. The boundaries that define a small operator are all defined at these different levels.
While the sales tax exemption may seem like a bonus for small businesses, it can actually be a hindrance. Small businesses that are not collecting tax generally cannot be exempt from tax or receive credit for taxes paid on other goods and services. This additional expense can create cash flow issues that larger companies don’t face.
Small business status is generally found in three different industries: professional services, niche market services, and limited volume distribution. It is very rare in manufacturing, automotive service or distribution companies. The fundamental reason is that these three sectors require a significant upfront investment in equipment, space and tools. The revenue stream needed to sustain this type of experience and obtain funding precludes them from small business status.
Professional services such as accounting, consulting or freelance work typically do not generate enough income in the first year of operation to reach the revenue threshold. It is important to note that the evaluation period is defined as a fiscal year. Small business start-ups should consult with their accountants about what month the fiscal year starts and whether they are going to use calendar or fiscal year. Many small self-employed or boutique businesses keep their income below the cap to avoid the responsibility of collecting, recording and remitting sales or excise tax.
Niche market services like handmade clothing, jewelry or creative artists have a very small market that they cater to. The level of effort in these areas may not necessarily translate into revenue. As such, they are often considered small traders.
A limited volume distributor of merchandise such as a flea market vendor, homemade food or beauty supplies is a small merchant due to the amount of annual revenue generated. These types of businesses are often on the sidelines as the owners have part-time or full-time jobs elsewhere. Many creative artists start out as a small trader, selling their work at fairs, galleries and flea markets. Over time, they often build up a loyal customer base, allowing them to transition into a profitable business.
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